Short-term pressure—that’s what everyone complains about. In my discussions with senior executives at large companies, they speak openly about the market pressure for short-term performance. Specifically, it’s the pressure from the financial market for higher earnings the next quarter. That singular focus is restricting organizations from innovating. And the number one enemy that unites all managers? The Wall Street analysts.
The one CEO who understands this all too well is Jeff Immelt. He led General Electric from 2001 to 2017. Once the world’s most valuable company at over $500 billion, GE today is worth less than $120 billion. Its businesses in lighting, home appliances, MRI scanners, locomotives, and gas power were all sold off. The company is a shell of its former self.
But Immelt wasn’t inept. He knew the importance of generating growth. When he first became CEO, his priority was reinventing GE from the ground up. He rightly sold off GE Capital, a financial operation that was full of toxic assets after the subprime mortgage crisis. He expanded internationally into China and India. He developed the strategy of the industrial internet ahead of his counterparts at Siemens and Honeywell. He envisioned that GE would switch from selling hardware to software solutions.
A great strategy. But the financial market never believed GE. Why’s that?
Stocks for the Long Run: General Electric vs. the S&P 500
Is It Smarter to Play to Win or to Not Lose?
Immelt was charismatic. He was articulate and well liked. He was willing to take chances, dream big, and think creatively. To find out what went wrong, my research team decided to cross-examine data. Lots of it. Big data style.
We downloaded every report published during Immelt’s tenure by the standard bearers of business news. That included The Wall Street Journal, CNBC, and Financial Times, along with corporate press releases. Then, 16 years of data were all fed into an algorithm. We wanted to look at how GE projected itself and how exactly the business community came to understand it. Such a “textual analysis” gave us a gauge on how things have evolved. We also added an industry peer for comparison: Honeywell.
Overall and over time, GE under Immelt was promotion-focused. The company played because it wanted to win. Honeywell, in contrast, was vigilant and concentrated on staying safe. Being prevention-focused also made it more risk averse. It emphasized being thorough, accurate, and careful.
This broad description fits with the CEO behavior. Honeywell’s David Cote was hired in 2002 to lead the company. That was just a year after Immelt’s appointment at GE. Cote’s immediate concern at the time was Honeywell’s aggressive accounting practices.
“The first step to improving the planning function is to eradicate the quick fixes that keep people stubbornly focused on today at tomorrow’s expense,” then CEO Cote recalled in his memoir. Honeywell had been offering distributors special discounts or longer payment terms during the last week of a quarter. It did so because Honeywell could then record sales before the earning announcements. Similarly, salespeople would ship products for free as a discount promotion. The company would then amortize the cost over the next 10 or 20 years. You win today, lose tomorrow. In one instance, a plant manager cut down hundreds of acres of trees around the property so that he could sell them for timber. That helped him “reach [the] goals for the quarter.”
None of these are legally wrong. But Cote was determined to eliminate all shenanigans. No more bookkeeping gains, one-time “specials,” or distributor loading. He didn’t care what it cost in income. He scrubbed clean the financials because he likes to be thorough, accurate, and careful. He said repeatedly, “Delegate as a leader, but don’t abdicate.”
Next, he pushed the idea of “perpetual restructuring.” He would spend $10 to $40 million each quarter on restructuring. He wouldn’t max out any one-time gains in profit because of the sales of a business. And when Honeywell had a great quarter, he rechanneled earnings for process improvements. Rather than riding high on something one-off, he systemically paid down technical debts over time. Underpromise, overdeliver. That’s what you do when being prevention-minded.
It’s an interesting contrast to GE. In February 2008, at a probe by the Securities and Exchange Commission, GE had to restate two of its previous financial results. It disclosed additional accounting errors since 2005. The only thing that remained unchanged was the outlook at GE. It remained optimistic while Wall Street became increasingly skeptical.
Share price performance during Immelt’s tenure compared to Honeywell’s
How Did Wall Street Make Up Its Mind?
Now you ask, how exactly did Wall Street come to a consensus? How did the market choose to believe in Cote but not Immelt?
There are usually a good number of experienced analysts who track a company. They write research reports for mutual funds, hedge funds, and large banks. These are the institutional investors who make the buy/sell decisions for our pensions.
The Wall Street analysts are being evaluated all the time. They are judged by their records of making accurate forecasts. They are also ranked openly by this ability. Publications like Institutional Investor regularly publish the analyst rankings. Winners routinely brag about making it.
Think for a minute here. Is there any job performance that’s more transparent than this? Could you imagine your annual performance being benchmarked against those who hold a similar job at other organizations, with the rankings easily search via the internet?
An example of analyst rankings taken from tipranks.com/analysts/top
I am not saying this is a good system. But the relentless open evaluation of the job performance of an analyst makes them view the world with a dose of skepticism.
Imagine you are an analyst. When faced with questionable stories, you’ll naturally go conservative. You don’t just listen to the CFO or CEO. You can’t blindly trust corporate communication. Just because a company has an exciting plan doesn’t justify buying the stock. Management routinely fails to execute a company’s plans. Turnaround stories usually disappoint. Hot products or services can come to an end quickly. Superior technology or a patent doesn’t guarantee success. Mergers rarely work.
With so many failures, why would Wall Street suddenly become enthusiastic about another me-too, also-run digital transformation? As a veteran analyst summarized, “If you’re using a valuation methodology that differs from most market [analysts], you need to be prepared to quickly tie your methodology back to theirs.”
How Do Analysts Change Their Viewpoint of a Company
Now we see why analysts seem short-term driven, because they don’t change their viewpoint on companies arbitrarily. The market isn’t likely to revise the share price until the company’s revenue starts to beat consensus a few times. Analysts don’t trust the CEO’s rhetoric until they see some concrete results.
That’s why it’s so important for an incumbent to deliver today as well as building growth prospects for tomorrow. Note that when I say “delivering today,” I include both financial performance as well as tangible, demonstrable traction on whatever transformation you have in mind. Break down the grand vision into early indicators. Show the world that you are not just working toward it but generating momentum already.
The status of a growth stock is earned over time. It’s not something a CEO or a board can announce. Executives sometimes do not like the fact that the market tells them when they are not doing a good job, just like most students do not like to get bad report cards.
Thanks for reading—and be well.
P.S. Management is a hard job. What are some of the cautionary tales of failed transformation you’ve seen? Is innovation and transformation at odds with the financial market? What’s your view? Tell us your thoughts. We’d love to hear from you.
This article is co-authored with Angelo Boutalikakis, a research associate at the Center For Future Readiness at the IMD Business School
There is an old saying, “Sports is like life.”
Instant gratification is the standard. A coach or manager, even those with prior success, has a bad season get rid of him.
Many thanks for a most insightful and well researched paper. It calls to mind : Prof. Roger Martin’s ; A. G. Lafley’s , and Dr. Benjamin Tregoe’s .
Tregoe’s focuses on the unique capabilities in the personality of the organization to understand where to win, then one may have to be a game-changer to push it through.
I cannot understand how GE’s board of directors could sit still for 16 years watching the demise. It would be most interesting to speculate on what is being done to enable GE to find a sustainable seat among the key players ?!
Another great article from you Howard. I’m glad to read this one and as always you have the graphs that shows analysis. We have the basic representation and comparison. Thank you for this.
I’m always checking updates on your blogs. Very informative. Keep it up Howard!